Policymakers Open to Adjusting Policy But Downplay Prospect of Near-Term Cuts

Our baseline monetary policy call remains no more rate hikes. Although we see the next move as more likely to be a cut in rates than a hike, we don’t expect a rate cut in the near term. The recent data have been mixed concerning real GDP growth in Q1, but on balance point to a somewhat faster, though still modest, pace.  We continue to expect growth to rebound temporarily after a soft Q1 but for the trend, smoothing through quarter-to-quarter fluctuations, to be a marked deceleration from the rapid growth last year. 

Policymaker Remarks 

A couple of policymakers drew on the rate cuts in the late 1990s as an example of sound risk management.  Evans (Mar. 25) suggested that the Fed has the option of easing policy to take out “insurance against bad  outcomes.” He drew a parallel between the current period and the 1997-1998 period when a strong U.S.  economy with inflationary pressures faced external downside risks. The Fed saw that uncertainty as meriting a cautious wait-and-see posture. He asked: “[Does this] sound familiar?” He concluded that the risk 

management strategy of the 75-basis-point easing in late 1998 was successful. Clarida (Mar. 28) cited the same easing episode, describing that response and several other easing measures as “helpful responses to the spillovers” from abroad. He highlighted “prominent downside global risks” and argued that the U.S. is more vulnerable to foreign contagion than previously because of greater financial integration with the rest of the world.  

Despite the discussion of the 1997-1998 easing, we caution that there is no consensus for a rate cut. Even  Bullard, who has been quite dovish in recent years, said it is “premature to contemplate a rate cut.” The current posture remains a pause, without any presumption of the direction of the next rate move. Daly (Mar.  26) supported the current pause and wanted to wait to see whether another move—“up or down” —would be needed. She saw the current policy rate as within “a stone’s throw of neutral.” Kaplan (Mar. 29) said “if  there was evidence to suggest that growth would actually undershoot that forecast,” he would “start thinking  about: what does that tell me about the stance of policy?” His baseline had no rate hikes this year. Kashkari  (Mar. 29) said it was “way too soon” to prejudge policy in 2020. Quarles (Mar. 29) saw “further increases”  in the fund’s rate as possibly necessary “at some point” and said his estimate of the neutral fund’s rate is  “somewhat north of where we are now.” Williams (Mar. 28) thought “monetary policy is around neutral in  terms of the short-term interest rate.” He thought of recession probability “as being not elevated relative to  any year.” George (Mar. 27), reputed to be more hawkish, was on board with the pause as well. She cited the “long and variable lags” with which the previous tightening would pass through to the real economy. 

The upcoming framework review will generate vigorous debate about the current inflation-targeting strategy.  In their remarks on the framework, policymakers have generally been careful not to prejudge the outcome.  Bullard (Mar. 28) was more willing to stake out a position. He wrote an essay advocating for nominal income targeting. Kaplan (Mar. 29) warned that credibility was central to so-called make-up policies for inflation misses. Quarles said he would find it acceptable for inflation to run “mildly” above its 2% target. George seemed to oppose a price-level target, and she cited difficulties with defining and conveying the timeframe for an average inflation target.  

Policymakers commented on the recent yield curve inversion, acknowledging concerns but also cautioning that a yield curve inversion must be large enough and last long enough to matter. Bullard thought “you would  have to get a wider variety of spreads inverted, the 2-year/10-year particularly, and it would have to stay  inverted a while to send a negative signal,” although he said an inversion has been “an extremely reliable  signal.” Quarles said he doesn’t “view it as much of a harbinger as others might.” He thought banks could still stay profitable under that scenario. Kaplan called the current yield curve “flattish” and said an inversion would be significant if it is big enough and persists for some time. He didn’t think either condition has been  met: “If you see an inversion that goes on for several months…that’s a different kettle of fish…We’re not  there yet.” He added, “What you’re seeing in the bond market is skepticism and sluggish expectations for  future growth.” Kashkari shared a similar assessment. Williams thought the yield curve’s recent behavior was  more a reflection of views on the global economy than the U.S., and he remained optimistic: It “still tells us  that the best bet is that growth will continue.” Rosengren said he doesn’t “take nearly as much information from the shape of the yield curve as some people do” and was hopeful that the flattening is only temporary. 

Nowcasts (2019:Q1) 

Source Current One Week Ago Two Weeks Ago
Atlanta Fed GDPNow 2.1% 1.2% 0.4%
New York Fed Staff Nowcast 1.3% 1.3% 1.4%
CNBC/Moody’s Survey 1.5% 1.4% 1.4%

Recent Data 

Real GDP growth in Q4 was revised down from 2.6% to 2.2% on slower growth in final private demand,  including a three-tenths downward revision to real PCE growth, to 2.5%. The contribution from inventories was little changed, and there were offsetting revisions to the contributions to real GDP growth from net exports and government, upward and downward, respectively. The recent data have been mixed for real GDP growth in Q1, but on balance point to a slightly faster, though still modest, pace. On the positive side, the trade balance narrowed much more than the consensus expectation in January. This morning’s construction spending report also beat expectations, with spending increasing 1% in February. The housing data have continued to be lackluster, on balance. Starts, permits, and pending home sales in February disappointed, while new home sales surprised to the upside. The personal income and outlays report for  January was soft. Core PCE prices advanced only modestly in January, and the 12-month change declined to 1.8%. A decline in the headline index in January brought 12-month PCE inflation down to only 1.4%. Real consumer spending was also weaker than expected, advancing only a tenth in January. However, this morning’s retail sales report for February suggests that that will be revised up: While sales in the control group—which includes only those categories of retail sales that are direct inputs into the PCE data—fell in  February, the January data were marked up sharply. 

Release Period Actual Consensus Revision to  Previous ReleasePreviously  Released Figure
Housing Starts MoM Feb -8.7% -1.6% 11.7% 18.6%
Building Permits MoM Feb -1.6% -0.9% -0.7% 1.4%
Conf. Board Consumer Confidence Mar 124.1 132.5 — 131.4
Trade Balance Jan -$51.1b -$57.0b -$59.9b -$59.8b
Current Account Balance 4Q -$134.4b -$130.0b -$126.6b -$124.8b
GDP Annualized QoQ 4Q T 2.2% 2.3% — 2.6%
Real PCE QoQ 4Q T 2.5% 2.6% — 2.8%
Core PCE Prices QoQ 4Q T 1.8% 1.7% — 1.7%
Pending Home Sales MoM Feb -1.0% -0.5% 4.3% 4.6%
Personal Income MoM Feb 0.2% 0.3% — -0.1%
Personal Spending MoM Jan 0.1% 0.3% -0.6% -0.5%
Real Personal Spending MoM Jan 0.1% 0.3% — -0.6%
PCE Prices MoM Jan -0.1% 0.0% — 0.1%
PCE Prices YoY Jan 1.4% 1.4% 1.8% 1.7%
Core PCE Prices MoM Jan 0.1% 0.2% — 0.2%
Core PCE Prices YoY Jan 1.8% 1.9% 2.0% 1.9%
New Home Sales MoM Feb 4.9% 2.1% 8.2% -6.9%
U. of Mich. Sentiment Mar F 98.4 97.8 — 97.8
U. of Mich. 5-10 Yr Inflation Mar F 2.5% — — 2.5%
Retail Sales Advance MoM Feb -0.2% 0.2% 0.7% 0.2%
Retail Sales Control Group MoM Feb -0.2% 0.3% 1.7% 1.1%
ISM Manufacturing Mar 55.3 54.5 — 54.2
Construction Spending MoM Feb 1.0% -0.2% — 1.3%
Business Inventories MoM Jan 0.8% 0.5% — 0.6%

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